Charitable Remainder Trusts for Appreciated Assets

A retiring physician holds $3 million of stock in a company she joined early, with a cost basis of $200,000. She wants to diversify, she needs income, and she has always intended to leave something meaningful to her medical school. Selling outright would trigger a capital gain of $2.8 million and a federal tax bill approaching $700,000 before state tax. Holding means the concentration risk continues. A charitable remainder trust is built for exactly this situation.

The structure belongs to a family of tools the tax code calls split-interest gifts, where one party gets the income and another gets what is left. They have been in the code for more than fifty years and solve a specific problem: how to convert a low-basis asset into a diversified income stream while making a substantial gift to charity, with the tax savings funding part of the exchange.

This article explains how charitable remainder trusts work, the difference between the annuity and unitrust versions, who benefits, the alternatives that may fit better, and the trade-offs. It is educational, not tax or legal advice. Attend does not draft trusts or prepare tax returns; we run the numbers and coordinate with your outside estate planning attorney and CPA.

How a Charitable Remainder Trust Works

You transfer an appreciated asset to an irrevocable trust. The trust sells the asset and, because a CRT is exempt from income tax under Section 664 of the tax code, pays no capital gains tax on the sale. The trustee reinvests the full proceeds in a diversified portfolio. Each year the trust pays you, or you and your spouse, a specified amount for life or for a term of up to 20 years. When the income term ends, the remainder passes to the charities you named, which can include a donor-advised fund.

Three tax benefits follow. First, no capital gains tax at the sale, so the entire value goes to work rather than 70 to 75 percent of it. Second, an income tax deduction in the year you fund the trust equal to the present value of the charity's remainder interest, calculated using IRS tables and the current Section 7520 interest rate. Third, the asset is removed from your taxable estate.

The income you receive is taxed under a four-tier system: distributions are treated first as ordinary income the trust earned, then capital gain, then tax-exempt income, then return of principal. In practice, most distributions from a CRT funded with appreciated stock are taxed as long-term capital gain for many years, which spreads the deferred gain over the payout period rather than eliminating it.

The 10 percent remainder test

The IRS requires that the present value of the charity's remainder be at least 10 percent of the initial contribution. This limits how high the payout rate can be and how young the income beneficiaries can be; a couple in their 40s cannot fund a lifetime CRT with a high payout. The payout rate must also fall between 5 and 50 percent.

CRAT vs CRUT: Choosing the Payout Structure

The two versions differ in how the annual payment is calculated, and the choice shapes everything about how the trust behaves.

Charitable remainder annuity trust (CRAT)

A CRAT pays a fixed dollar amount every year, set at funding as a percentage of the initial value. Fund a CRAT with $2 million at 5 percent and you receive $100,000 a year regardless of performance. The payment never rises with inflation and never falls in a bad market. No additional contributions are allowed, and the trust must show less than a 5 percent chance of exhausting its assets before the term ends, which has made lifetime CRATs hard to qualify for younger beneficiaries.

Charitable remainder unitrust (CRUT)

A CRUT pays a fixed percentage of the trust's value, revalued each year. A 5 percent CRUT worth $2 million pays $100,000 the first year; if the portfolio grows to $2.2 million, the next payment is $110,000. Payments rise and fall with the market, which provides some inflation protection and shares risk between you and the charity. Additional contributions are permitted. Most CRTs created today are unitrusts.

NIMCRUTs and flip CRUTs

Two unitrust variants handle illiquid assets. A net income with makeup CRUT pays the lesser of the unitrust amount or the trust's actual net income, with shortfalls tracked and paid later. A flip CRUT starts as a net income trust and converts to a standard unitrust on a triggering event, typically the sale of the illiquid asset. These are the structures used for real estate or a closely held business interest.

Who a CRT Makes Sense For

A charitable remainder trust is a specialized tool. The situations where it consistently improves the outcome share a few features: a large unrealized gain, a genuine charitable intent, a need or desire for income, and enough other assets that locking up the contributed asset is acceptable.

• Concentrated stock from a long career or an early employer. Diversifying inside the trust avoids the immediate tax that makes many people hold on too long. See our guide to concentrated stock strategies for the full range of options.
• Appreciated real estate, including rental property with depreciation recapture exposure, where the owner is ready to stop managing it and wants income instead.
• A business interest before a sale. Contributing part of the company to a flip CRUT before a buyer is under contract can shelter that portion of the gain. Timing is critical: if the sale is already effectively agreed, the IRS can treat the gain as yours under the assignment of income doctrine.
• Retirement accounts at death. Naming a CRT as the beneficiary of a large IRA can stretch payments to heirs beyond the ten-year rule that now applies to most inherited IRAs, with the remainder going to charity. The trust pays no tax when it receives the IRA, and the heirs are taxed as distributions come out.

Alternatives and Related Split-Interest Gifts

A CRT is rarely the first tool to consider. Simpler options often accomplish more with less complexity, and the right comparison depends on whether you need income.

Donor-advised funds and direct gifts of stock

If you do not need the income, giving appreciated stock directly to a charity or to a donor-advised fund produces a deduction for full fair market value, avoids the capital gain entirely, and involves no trust, trustee, or annual tax return. For most donors this is the better answer. Our article on charitable giving tax strategies compares these approaches.

Charitable gift annuities

A charitable gift annuity is a contract with a charity: you give an asset, and the charity pays you a fixed amount for life backed by its general assets. It is simpler and cheaper than a CRT, works well for gifts in the tens or low hundreds of thousands, and is offered by most universities and hospital systems. The trade-off is less flexibility and reliance on the charity's financial strength.

Charitable lead trusts

A charitable lead trust reverses the order. The charity receives the income for a term of years, and the remainder passes to your children. Lead trusts are estate and gift tax tools rather than income tax tools: they transfer assets to the next generation at a reduced gift tax value while funding charity in the meantime, and they work best for families with taxable estates. Our guide to charitable legacy planning covers where they fit.

Costs, Trade-Offs, and Common Mistakes

The benefits of a CRT are real, and so are the costs. The trust is irrevocable. The asset is gone from your balance sheet, replaced by an income stream, and your heirs receive nothing from it unless you buy life insurance to replace the value, often in an irrevocable life insurance trust funded with part of the tax savings. That wealth replacement strategy is common but adds cost and administration.

Administrative costs include legal drafting, an annual fiduciary return on Form 5227, annual valuations for a unitrust, and trustee fees if a bank or the charity serves. Many large charities and community foundations will serve as trustee at low or no cost if they are the remainder beneficiary, which makes the structure practical for trusts of a few hundred thousand dollars. Below that, fixed costs tend to outweigh the benefit.

Mistakes we see repeatedly:

• Funding the trust after a sale is already negotiated, which lets the IRS tax the gain to the donor anyway.
• Contributing mortgaged real estate, which can create unrelated business taxable income and disqualify the trust.
• Setting the payout rate at the maximum, which minimizes the deduction, drains the trust in a weak market, and can fail the 10 percent test.
• Overstating the deduction. The deduction is a fraction of the contribution, often 20 to 40 percent depending on ages and rates, and it is subject to the annual limits on charitable deductions, with a five-year carryforward.

How the Decision Gets Made

The analysis starts with a comparison of three paths for the asset: sell and pay the tax, hold and accept the risk, or contribute to a CRT. For each we project after-tax cash flow to you, the value that reaches your heirs, and the amount that reaches charity, over your life expectancy and under a range of market assumptions. The CRT often wins on lifetime income and charitable impact and loses on what heirs receive.

If the trust makes sense, your estate planning attorney drafts it using IRS sample provisions, your CPA calculates the deduction and handles the annual return, and we help select the trustee, manage the investments inside the trust, and coordinate the payout with the rest of your retirement income plan. The IRS publishes its overview of charitable remainder trusts and the Form 5227 instructions, which are the authoritative references. The IRS rules on charitable contribution deductions explain the annual limits that apply to the up-front deduction.

A charitable remainder trust turns a tax problem and a charitable intention into a single structure that serves both. It is not simple and it is not for everyone, but for the donor with a low-basis asset, a need for income, and a cause worth supporting, it can produce more for the family and more for the charity than any alternative. Run the comparison honestly, and let your attorney draft only what the numbers support.

Tony Colunga · Founder, Attend Wealth

Tony leads Attend Wealth, a fee-based wealth management firm in Atlanta serving professionals, families, physicians, and business owners. Advisory services are held to a fiduciary standard. More about Attend